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(Solved by Expert Tutors) Steinberg Corporation and Dietrich Corporation are identical firms>


except that Dietrich is more levered. Both companies will remain in business for one more year. The companies' economists agree that the probability of a recession next year is 20 percent and the probability of a continuation of the current expansion is 80 percent. If the expansion continues, each firm will generate earnings before interest and taxes (EBIT) of $2.4 million. If a recession occurs, each firm will generate earnings before interest and taxes (EBIT) of $900,000. Steinberg's debt obligation requires the firm to pay $800,000 at the end of the year. Dietrich's debt obligation requires the firm to pay $1 million at the end of the year. Neither firm pays taxes. Assume a one-period model, risk neutrality, and an annual discount rate of 15 percent. 1.Assuming there are no costs of bankruptcy, what is the market value of each firm's debt and equity?

 


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Apr 19, 2020

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